Archive for the ‘Supply and Demand’ Category

The Left-Coast is at it again. This time waiters in Nancy Pelosi’s San Francisco are demanding that they receive mandatory 25% tips, irrespective of the quality of their service. The demand again shows the entitlement mentality created in the United States by Leftist Progressives. It also demonstrates the Left’s ignorance when it comes to markets; i.e. supply and demand. Should the SF waiters be successful in this push, their compensation will ultimately decrease as consumers stop frequenting restaurants due to higher costs. Next these knuckleheads will be demanding tenure.

A 26-year-old Massachusetts man was charged last week with plotting to use remote-controlled aircraft to bomb the Pentagon and US capital. The suspect is an American citizen, Muslim Rezwan Ferdaus, whose goal was Jihad against the United States.

According to the FBI, Ferdaus had connections with Al Qaeda. He earned a degree in physics from Northeastern University in Boston. According to FBI reports, Ferdaus had been plotting against United States since 2010. This is but the latest example of the growing danger from homegrown Muslim extremists within United States.

The issue of the dangers from homegrown terrorists in America is often ignored by the mainstream media as political incorrect. The media often refuses to acknowledge that there is even a problem within the worldwide Muslim community with Jihad. For example, in the case of Rezwan Ferdaus’s plans to attack the United States, the New York Times article titledMan Is Held in a Plan to Bomb Washingtondid not once mention the words Muslim or Islam. This is a curious omission given Ferdaus’s comments to the FBI that indicated his desire to attack the United States was so strong that “I just can’t stop; there is no other choice for me.”

The great Chinese General Tzu once said: “If you know the enemy and know yourself you need not fear the results of a hundred battles.” If General Tzu was alive today, he most certainly would not read the New York Times.

Jim Mahoney sent this one in calling it “Cash-for-Cluckers”. Yes, our government is at it again, this time with a bailout of the chicken industry.

It seems there’s a gut of chickens on the market driving down prices. Production is up 4% for 2011 according to the National Chicken Council while demand has cooled off from the previous year. That should be good news for consumers, except the US government will have none of that. The Department of Agriculture (USDA) announced that it will purchase $40 million of clucker products this year and donate them to federal assistance programs.

In announcing the buying of broiler (meat) chickens, the USDA said: “Broiler producers have already cut production substantially and this purchase will help them bring supply in line with demand.” This incredible statement indicates that the USDA doesn’t have even the most basic understanding of supply and demand in free markets taught in Econ 101. This market intervention will only distort the markets, not balance supply with demand. Here are just a few examples of the consequences of the USDA’s intervention:

Purchasing chickens and distributing them free might temporary boost chicken prices, but will also depresses the prices of the other foods that may have been purchased without the government’s chicken give away.

Should USDA’s achieve its goal of artificially inflating chicken prices, the chicken industry will believe that the real demand for their products is greater than reality. This will cause them to produce too many chickens next year, depressing those prices. In fact the USDA has made this same mistake in the past buying chickens for similar reasons: $30 million in 2010 and $42 million in 2008. This failed policy has thus become an industry subsidy, crony capitalism at its worst.

Consumers have paid higher prices when chicken demand exceeded supply. They will now not receive the appropriate benefit (price drop) from the oversupply.

Capitalism is the most efficient system available for controlling complex and dynamic markets. When shortages occur, this system offers incentives to producers to increase production by raising their profits. Alternatively, when there is oversupply, profits decrease insuring the produces will cut back production.

In America’s bailout nation, it has become the norm to bail out losers. This is not capitalism. While it is patently unfair since winners must pay the bills, even worse are the consequences of the market distortions created. These distortions have directly led to the long-term high unemployment and recession in the United States and the ongoing debt crises in Europe. As these distortions become more perverse with ever increasing bailouts, the ultimate cost of real problem resolution grows.

CNNMoney has reported that home prices dropped significantly in late 2010, down 4.1% during the last three months of 2010 compared to the previous years’ same quarter. It was also down 1.9% compared to the third quarter of 2010.

The decline hit 18 of the 20 large cities covered by S&P/Case-Shiller with the only gains being in Washington D.C. and San Diego. Washington’s gains obviously came from increased federal government spending in the region.

Earlier gains came from the government’s intervention through tax credits that acted as rebates to buyers. Standard and Poor’s Maureen Maitland said of these rebates: “Last years’s gains came courtesy of the tax incentives and the market is not holding up on its own.”

The billions spent by the federal government in rebates to homebuyers wasted taxpayers’ money. It did nothing to improve the housing market, which should not surprise anyone that took Econ 101. Housing prices are set by supply and demand, not by the government or their rebates.

Given the utter failure of the trillions spent by the government intervening into markets to stimulate the economy, it is well beyond the time to pull the plug on these efforts. Irrespective of what liberal economists preach, the law of supply and demand will have its day no matter how much money the government wastes attempting to prove otherwise. The economic meltdown was caused by leverage; i.e. excessive debt, which must be washed out of the system. That cannot occur without pain.

Commercial banks are requiring home buyers to come up with more down money for mortgages. This is a natural result of a marketplace that got out of balance during the housing bubble.

The Wall Street Journal reported that the median down payment has risen from a mere 4% in 2006 to 22% on conventional mortgages, similar to what was required in the more sane times of the mid 1990’s. While this increase will continue to depress hosing prices with fewer people able to obtain mortgages, it will stop another housing bubble from occurring. It will also bring supply and demand for homes back into balance. Finally, it will help insure that banks get repaid on mortgages made, a novel concept.

The federal government has had a schizophrenic reaction to the more rational behavior of the mortgage markets. The Obama administration last week indicated that it will seek to raise the minimum mortgage down payments to 10% on conventional loans backed by Fannie Mae and Freddie Mac. However, private lenders are already ahead of this curve. At the same time the federal government offers loopholes for mortgages obtained through agencies such as the Federal Housing Administration (FHA), requiring only 3.5% up front. The FHA makes up half of today’s home mortgages.

The government used the housing bubble to heat up the American economy to 2006 at the expense of our economy today. By promoting cheap mortgages with low down money, as well as home ownership to those that could not afford them, they artificially increased home values. These increased values were then used by home owners to use phantom equity to barrow and ultimately spend more than they could afford. The financial meltdown and ongoing economic challenges are prices we continue to pay for these bad polices.

Private greed played a role in creating the housing bubble and resulting financial meltdown. However, this greed could not have been acted upon at the level reached without the government’s intervention into the mortgage markets. Should the government continue intervening in the housing market in the name of lessening the public’s pain, future economic imbalances will be just as catastrophic as those that resulted from its previous interventions.

During President Obama’s first two years of office, he battled many who disagreed with his policies including the U.S. Chamber of Commerce. Since the disastrous midterm elections, Obama has attempted to mend fences with some across the aisle, including the Chamber.

Today the President spoke at the U.S. Chamber of Commerce’s Washington headquarters. The speech was typical for Barack Obama, eloquent in words, but lacking in real substance. It included the following comments:

Using modern colloquialism, Obama prodded American businesses to help the economy, suggesting executives “get in the game” and invest.

“I want to be clear: even as we make America the best place on earth to do business, businesses also have a responsibility to America. As we work with you to make America a better place to do business, ask yourselves what you can do for America. Ask yourselves what you can do to hire American workers, to support the American economy, and to invest in this nation.”

“We cannot go back to the kind of economy – and culture – we saw in the years leading up to the recession, where growth and gains in productivity just didn’t translate into rising incomes and opportunity for the middle class.”

The premise behind the President’s comments is off the mark. It proffers the view that businesses are holding back on investment for some political or nefarious reason. That belief indicates a lack of understanding of capitalism and how businesses operate. Businesses always attempt to maximize profits. If the opportunity to sell more goods or services exists, businesses will invest capital to obtain additional sales, i.e. profits. The reason businesses are currently not investing and hiring is due to a lack of demand for their goods and services. No amount of prodding by the President will change that reality.

While the continuing high unemployment rate has its roots in the financial meltdown that occurred some tow and a half years ago, the downturn has been lengthened by inept governmental actions and interventions. Failed businesses like General Motors, AIG and major banks were bailed out at the expense of small businesses that create most new jobs in the United States.

In addition, while president Obama today spoke in Washington about the need to eliminate unproductive governmental regulations, during his first two years in office the number of regulators has increased by 13%. These regulations make it difficult to do business within United States and stifles investment.

President Obama seems to believe that he is one good speech away from changing complex aspects of the economy. This naïve approach shows a lack of a strategic plan. The economy has and always will be controlled by the laws of supply and demand. The President and his Progressive comrades would do well to read The Wealth of Nations by Adam Smith. While published in 1776, its theses have withstood the test of time.

The financial crisis that began over two years ago gave the government two general directions to travel. One was a “hands-off” approach that would have allowed the markets to correct the severe imbalances created by artificially low interest rates that led to the housing bubble. The second approach required significant governmental intervention in an effort to correct the economic imbalances.

Understanding the dangers of unintended consequences that market intervention would bring, the Bush Administration initially took the hands-off approach. However, after Lehman Brothers failed and with the potential for other banks following, the Bush Administration lost its nerve and started down the interventionist path that continued is growing under the Obama Administration.

The government’s interventions, i.e. bailouts, avoided significant short-term economic disruptions. However, these policies have not resolved the underlying problems that caused the crisis; excess debt. In fact the interventions address the challenges by creating still more debt. As a result, the economic imbalances continue and in some areas are growing.

Two figures that show the failure of the government’s bailout policies are Gross Domestic Product (GDP) and the unemployment rate. GDP growth has been anemic and the country’s unemployment remains at near 10%. In addition, the sovereign debt problems in Europe indicate that Europe’s interventions have failed.

Another challenge facing America is the poor economic condition that states and municipal governments find themselves. With decreasing tax revenues, state and municipal debts have grown significantly and will likely lead to a Sophie’s Choice for the government. The federal government will soon face the choice of bailing out the problematic states and municipalities or force them to declare bankruptcy to shed their excessive debt.

The federal government has already intervened into states’ finances without success. President Obama’s Stimulus Package sent a lifeline to states and municipalities. However, this one-time shot of adrenalin only kicked the can down the road. States foolishly spent the Stimulus funds to resolve immediate problems at the expense of more significant issues. An example comes from the state of New Jersey. Then Governor Corzine received approximately $1 billion from the federal government that was used for education, i.e. paying teachers’ salaries. Since these funds were not available the following year, an even larger shortfall occurred forcing the new Governor Christie to implement even more significant cuts than had federal government not intervened in the first place.

The New York Times today published an article with additional details of the financial challenges that state and municipal governments face that include:

Illinois is still paying off billions in bills for last year’s services.

Arizona stopped paying for certain organ transplants for those on Medicaid. It is also selling off state buildings to raise cash and then leasing these buildings. It is estimated that this game-playing will cost taxpayers $400 million in interest over the next 20 years.

States are releasing prisoners early to cut expenses.

Newark laid off 13 percent of its police officers last week.

Illinois has not made the required pension funds injections to for years.

States are continue to use an 8 percent expected rate of return for their pension funds investments. This assumption is so far off the mark that it should be considered criminal. When the states are forced to reset these return rates, that action alone could make them insolvent. State and local pensions funds are estimated to have a $3.5 trillion shortfall.

States and municipalities have $2.8 trillion worth of outstanding bonds and even greater amount of debs carried off their books. In the private sector people are sent to jail for this type of slight-of-hand.

Stimulus money increased the federal government’s share of state budgets to over a third last year, increasing from just 25 percent in 2008. That money runs out next summer and will likely cause another crisis.

The states in the most trouble are our largest ones including California, Illinois, New Jersey and New York. This is not by accident or coincidence. These large states have huge political clout and used it over the years to get Washington to deliverer funds to promote Progressive agendas. The states can no longer afford their share of these programs’ costs. However, the federal government is now also up to its eyeballs in debt and the People will no longer tolerate reckless federal spending.

The current finances of states have similarities to the housing market before it melted down. Excessive debt (mortgages) within this market could only be paid back if housing values (bubble) continued to increase. Once that party ended, the meltdown occurred rapidly. The same could happen to the states and municipalities excessive debts. Should the markets see increased risk in buying the bonds that support these entities’ debt, the cost of their debt service will skyrocket. That will then only lead to the Sophie’s choice discussed above.

While it is likely that the federal government will bail out the states when the crisis begins, this action will not be any more successful than the bailouts already made. It will move the excess debt to the last backstop; the United States federal government. That would put at risk the value of the U.S. dollar, driving up the cost of borrowing for the world’s largest creditor, the United States. The potential unintended consequences of this action are nasty.

The problem of excessive debt cannot be resolved with even more debt. The process of deleveraging must be allowed to occurred. The longer this can gets kicked down the road the more painful the correction will be. Unfortunately, in a society run by special interests, it is likely that consensus will not be reached on problem resolution until the markets force it on us. The markets will have their day. The laws of supply and demand are infallible in the long run.

The Wall Street Journal reported this morning that the Bank of Japan cut its overnight rate to between 0.0%-0.1%. This is Japan’s latest effort to stop the rising yen and deflation within its economy. However, this intervention into the markets will work no better than the dozens before it during the past two decades. Does anyone realistically believe that cutting a rate from near zero to nearer to zero will have any meaningful effect on the laws of supply and demand?

The Bank of Japan will also buy financial assets like long-term government bonds to further intervene in the markets. This sounds eerily similar to the quantitative easing option expressed by the Fed last week that caused the U.S. dollar to tank and gold to increase in value. It looks like central bankers worldwide are determined to debase paper currencies; i.e. create inflation.

Showing arrogance and a lack of understanding of unintended consequences, the Obama Administration five months ago imposed a moratorium prohibiting deepwater drilling in American waters in the Gulf of Mexico. Add to this a longstanding federal law banning drilling near the coast of Florida and we have effective stopped drilling for oil and gas in the southeastern waters off the United States. Well, not exactly. All we have done is stopped drilling in American-controlled territory.

Next year a Spanish company will begin drilling wells 50 miles from the Florida Keys in Cuban sovereign waters. This will not only move jobs and money from the United States to Cuba, but also increase the risk of environmental damage in the future since Cuba and its partners do not have the safety rules or resources that drillers in the United States have access to.

It is ironic that our socialist brothers in Cuba need to teach us some rules about supply and demand.

The American economy continues to be in distress. While many point to the fall of Lehman Brothers two years ago as the starting point for this downturn, the causes began much earlier. While the problems began long before the election of Barack Obama, he has been responsible for not allowing the economy to rebalance itself, a requirement before real recovery can occur.

The Right often blames the liberal policies of Democrats for the socialization of the American economy and a major cause of our economic problems. Many on the Left blame the free-market and lack of government oversight for the downturn. Both narratives are overly simplistic and incorrect. Both political parties took the same basic macroeconomic approach, i.e. excessive debt and having government become more intrusive in the economy, but placing a different spins on it.

Irrespective of the party in power, excessive private and governmental debt was used that led to the severity of the ongoing economic downturn. With governmental debt, Republicans often justified the debt by promoting military spending while Democrats promoted social programs. Both parties also approved governmental policies that promoted more private debt including subsidizing Fannie Mae and Freddie Mac and pressuring the Fed to lower interest rates whenever the economy had a hiccup. While each side found their justifications for the debt reasonable, from a macroeconomic standpoint the results were the same.